Quantitative Easing Explained

As developed economies show more signs of life, many observers wonder whether it is time to end quantitative easing. The discussion would be much more informative if more people actually knew what QE is. This is the best short explanation I have seen.

Author: Keith Humphreys

Keith Humphreys is the Esther Ting Memorial Professor of Psychiatry at Stanford University and an Honorary Professor of Psychiatry at Kings College Lonon. His research, teaching and writing have focused on addictive disorders, self-help organizations (e.g., breast cancer support groups, Alcoholics Anonymous), evaluation research methods, and public policy related to health care, mental illness, veterans, drugs, crime and correctional systems. Professor Humphreys' over 300 scholarly articles, monographs and books have been cited over ten thousand times by scientific colleagues. He is a regular contributor to Washington Post and has also written for the New York Times, Wall Street Journal, Washington Monthly, San Francisco Chronicle, The Guardian (UK), The Telegraph (UK), Times Higher Education (UK), Crossbow (UK) and other media outlets.

4 thoughts on “Quantitative Easing Explained”

  1. Yep, although QE in the US went a bit beyond shoveling money into the banks to buying up unconventional assets.

  2. The secondary joke is that helicopter drops of cash or printing out of a high window would probably work better than shovelling monetary base at money-centre banks, who find it much safer to lend to each other than to those of us who inhabit, faute de mieux, the real economy. We would actually spend our windfalls, on booze, drugs, guns, hookers or donations to left-of-centre policy blogs, thus getting the economy moving.

  3. This is very funny from an acting perspective, but unfortunately, it's also pretty much completely wrong.

    Quantitative Easing is fundamentally very different from a helicopter money drop (i.e., what's described in the article).

    QE is about the central bank buying assets from financial institutions with newly created money. There are two important differences:

    (1) QE is reversible. The central bank can always at a later date sell the assets it purchased and then destroy the money. A helicopter money drop is irreversible (or at least, extremely difficult to undo).
    (2) QE money goes to banks; helicopter drop money goes to consumers and households.

    All this probably occurs because a lot of people have odd preconceptions about "printing money". In reality, money creation works entirely differently. First of all, it's normal in a growing economy that money is being created. As an economy grows and its GDP goes up, we're dealing with more and bigger transactions (remember that GDP is cash flow, not wealth). In addition, a small, but non-zero rate of inflation is desirable (otherwise, we'd get deflation). Combining GDP growth and a non-zero inflation target, money creation is normal and necessary.

    Second, under normal circumstances, the central bank creates only a small part of the total money supply. Most of the money is actually created by private banks through fractional reserve banking, which is a normal side effect of banks lending money (if fractional reserve banking were made impossible, we'd just end up writing IOUs instead of using currency). If banks stop lending money, then you can get a contraction in the M2 money supply (you can actually observe that in Greece and Spain [1]). QE is at least in part an attempt by central banks to step in where private banks have failed to supply liquidity.

    That does not mean that QE is good or bad — every time you manipulate a national economy to the tune of a few hundred billion dollars (or even trillions), there can be substantial effects, both good (if it works out as planned) and bad (if it doesn't). But QE is nothing like what's described in the clip, even accounting for satirical distortion.

    [1] Greece and Spain also obviously suffer from money being moved abroad.

Comments are closed.